If you’re thinking of converting the legal form of your small business from a corporation to an Ohio LLC, you should be aware of some basic facts regarding the state’s business-entity conversion process. The tax consequences of such a conversion will be complicated so before you do it, you should consult with an experienced tax adviser.
First, there is not just one kind of corporation, one tax status for an LLC, or one kind of conversion. On the contrary, there are:
We won’t be looking at every possible combination of these variables. Instead, we’ll try to keep matters as simple as possible, focusing mainly on the general rules of Ohio’s business-entity conversion statute as it applies to closely-held, for-profit Ohio corporations converting to multi-member LLCs.
In Ohio, you can use a relatively new, somewhat simplified procedure that allows you to convert your business from a corporation to an LLC largely by filing a few documents with the Secretary of State. This procedure, technically known as “statutory conversion,” automatically transfers your corporation’s assets and liabilities to the new LLC. Unlike other methods of conversion, only one business entity is involved: you do not need to separately form an LLC before the conversion can occur. By the same token, there is no need to formally dissolve your corporation. Rather, as Ohio’s law states, upon conversion, your corporation “is continued in” the new LLC, and otherwise “ceases to exist.” The conversion procedure is codified primarily in Sections 1701.792, 1701.811, and 1701.821 of the Ohio Revised Code (O.R.C.).
To convert your Ohio corporation to an Ohio LLC, you need to:
The written declaration of conversion contains key information about the conversion, including the following required items:
By default, Ohio’s conversion statute requires adoption of the declaration of conversion by a minimum two-thirds majority of the voting shares of the corporation. However, the statute also allows for adoption based on no more than a simple majority of votes if this is authorized in the articles of incorporation. There are also conditions under which each share class must adopt it by a two-thirds or other majority vote. For more details, check O.R.C. § 1701.792(F).
The certificate of conversion contains some of the same information as the declaration of conversion, as well as a few other items. More specifically, it must contain:
In addition, the State of Ohio specifically requires that you notify various state agencies to which your corporation may owe taxes, contributions, or premiums that your corporation is undergoing a conversion, and then file an affidavit, attached to your certificate of conversion, stating that you have taken care of those notifications. (Certain information regarding the agencies to be notified is contained in O.R.C. § 1701.86(H).) A blank certificate of conversion form is available for download from the Secretary of State. Note that the form includes the required affidavit regarding your notifications to state agencies.
The articles of organization for your new LLC should have the following information:
For your convenience, the Secretary of State publishes a blank articles of organization form.
The declaration of conversion, certificate of conversion, articles of organization, and notification affidavit all may seem straightforward; however, keep in mind that, as part of the declaration of conversion, you need to prepare an operating agreement. Moreover, converting your particular business may involve unexpected complications. Therefore, it may be advisable to work with an attorney to prepare the necessary paperwork and otherwise assist with completing the conversion process.
Your minimum filing fee for this process likely will be $125, which is the cost for filing the certificate of conversion including the affidavit and articles of organization.
Finally, be aware that Ohio’s conversion statute states not only that all of your corporation’s property, as well as all of its obligations, are automatically transferred to the new LLC, but also that the rights of creditors continue unimpaired. For more information, check O.R.C. § 1701.821.
Apart from the foregoing steps, you will also need to take care of all the tasks normally associated with creating and running a new LLC, such as:
Following the proper LLC formalities is important for maintaining the limited liability status of your business and ensuring certain potential tax benefits. For a more complete discussion of the steps involved in forming and running an LLC, consult Your Limited Liability Company: An Operating Manual, by Anthony Mancuso (Nolo).
One other key step in the conversion process is to make sure that no business contracts or agreements, such as bank documents, leases, licenses, and insurance, will be nullified by your business’s conversion.
A key point to keep in mind is that converting a C corporation to an LLC taxed as a partnership often results in a large tax bill. This is largely because the IRS considers this kind of conversion to be a liquidation of the corporation for which the corporation will owe tax, on top of which the corporation’s stockholders will also be taxed personally on the corporate assets assumed to be distributed to them; in other words, there is double taxation.
Converting a corporation to an LLC that will continue to be taxed as a corporation generally does not have the same degree of adverse tax consequences as when converting to an LLC taxed as a partnership, and may even be largely tax-free. However, as this type of conversion will not change the basic elements of how your business will be taxed going forward, you should investigate closely how it would benefit the business, other than by providing a more flexible management structure. Also, in order for your LLC to continue to be taxed as a corporation, you must file a special election form with the IRS.
Converting from an S corporation to an LLC is fundamentally different from converting from a C corporation, because an S corporation has only one level of taxation. As a rule, an S corporation itself does not pay tax, only its shareholders do. Therefore, the tax consequences for this type of conversion are often more limited than conversions from a C corporation.
In general, the tax consequences associated with converting from a corporation to an LLC will be complicated. Therefore, for any kind of corporation-to-LLC conversion, you should consult with an experienced tax adviser.
For further guidance on converting from a corporation to an LLC, check Corporations and S Corporations vs. LLCs. Also, while they are not a substitute for expert tax advice, you should also consider looking at Tax Savvy for Small Business, by Frederick Daily (Nolo), and Legal Guide for Starting & Running a Small Business, by Fred Steingold (Nolo). For information on conversion rules in other states, check Nolo’s 50-State Guide to Converting a Corporation to an LLC.